The Base of the Latin American Pyramid

Thomas Trebat was right when he remarked here yesterday “an enormous share of the Latin American wealth generated in recent years has piled up in the hands of a privileged few that may or may not be playing a useful role in turning the present boom into self-sustained economic growth”. Ultimately, the current cyclical upswing will mean more than collecting low-hanging fruits only to the extent that it is accompanied by institutional changes leading to sustainable patterns of capital accumulation and productivity growth, what will necessary require a departure from the historical rent-seeking traits of capitalism in the region. However, while Tom searched for answers to the questions he posed by looking at the top of the pyramid of income distribution – e.g. whether globally competitive high-value brands, products and companies are emerging in the region – I would rather suggest that, in the current Latin American context, the bottom of the pyramid is the best place to look for yardsticks regarding progress and sustainable growth.

Good News from the Bottom

Let me start by highlighting some news that may certainly raise the hope that the current boom will yield at least some long-bearing fruits. I refer to the lower income concentration and poverty incidence that have come hand-in-hand with the low-inflation-cum-higher-growth experience of the latter years. In the case of the two largest economies in the region, which between them add up to more than 50% of the region’s 560 million people, as The Economist observed: “the incomes of the poor are rising faster than those of the rich in Brazil (where income inequality is at its least extreme for a generation) and in Mexico. In both these countries a new lower-middle class is emerging from poverty” (“Up from the bottom…”). “In Brazil between 2000 and 2005 the number of households with an annual income of $5,900 to $22,000 grew by half, from 14.5m to 22.3m, while those receiving less than $3,000 a year fell sharply to just 1.3m. In Mexico, according to Alejandro Hope of GEA, a consultancy in Mexico City, the number of families with a monthly income of between $600 and $1,600 has increased from 5.7m in 1996 to 10.7m in 2006.” (“Adiós to poverty…”). According to a recent study by the Getulio Vargas Foundation, “six million Brazilians lifted out of poverty in 2006”.

A similar phenomenon is happening in other parts of Latin America. The ECLAC released this week its 2007 version of the Social Panorama of Latin America whose estimates indicate that, as of 2006, 36.5% of Latin America’s population (195 million people) were poor and 13.4% (71 million) were extremely poor (see graphs bellow).

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In fact, these figures represent: “(…) a 3.3% drop in poverty and a 2.0% decrease in extreme poverty, or indigence, from these indicators’ 2005 levels. This means that 14 million people escaped from poverty in 2006 and 10 million who had been classified as indigent ceased to be so As a result, the region is well on track to reaching the first Millennium Development Goal target of halving the 1990 extreme poverty rate by 2015” (p.5). (…) “Projected per capita GDP growth for the Latin American countries in 2007 is expected to make it possible to bring poverty and indigence rates down to 35.1% (190 million people) and 12.7% (69 million people), respectively. If these projections are borne out, Latin America will have not only the lowest poverty and indigence rates to be recorded since the 1980s, but also fewer poor people than at any other time in the last 17 years. Poverty and indigence estimates for 2006 for 12 countries in the region reflect a widespread downward trend. All of these countries registered considerable reductions, and in most cases these decreases represented a continuation of the trend observed in 2005” (p.10).

Let me single out two of the factors pointed out by the report as major contributors to the increase in per capita income in the poorest households between 1990 and 2005:

(i) Higher overall employment rates, combined with a decrease in the number of dependents (“demographic dividend”); and

(ii) An increase in non-labor income, including public and private transfers (remittances from abroad and poverty reduction programmes).

The first one is highly dependant on the macroeconomic dynamic and might fade out if Tom Trebat’s concerns come true and the Latin boom itself shows up to be bound to fade. In that case, the “demographic dividend” and the corresponding higher share of the population at productive ages would become a liability and a true nightmare. But at least in the case of those countries where the recent macroeconomic good performance has laid upon foundations less shaky than previous ones, there is ground to believe that that factor is not likely to dissipate.

In the second case, the public transfer associated with poverty reduction programmes has in the recent experience been taking place in a way that can be characterized as an innovation in social policies, one that, provided it is followed by other consistent policies, may make a dent on the gloomy picture of poverty in the region.

Conditional Cash Transfers (CCTs) as an Innovation in Social Policies

CCTs have become increasingly used in Latin America over the last decade. Cash transfers are delivered to poor families, under the condition that their children attend school and that both children and pregnant women undergo medical check-ups on a regular basis. In all cases, the sum of transfers have proved to be small shares of public budgets and national incomes, while at the same time having significant impacts in terms of poverty reduction and inequality, besides improving education and health outcomes. On top of that, by making direct transfers to targeted beneficiaries, well-crafted CCTs allow for bypassing those traditional intermediaries of social policies that in the past not only captured a chunk of the transfers but also were able to manipulate them for political ends.

Sergei Soares et al (UNDP Poverty Centre) highlight that “the well-targeted income transfers of [Progresa]-Oportunidades [Mexico] and Bolsa Familia [Brazil] are sufficiently large to produce a significant reduction in inequality, even though they are small (close to 0.5%) in relation to total national household income in Brazil and Mexico”. In the case of Brazil’s CCT, see further the paper produced by Kathy Lindert et al. As far as Mexico is concerned, there is the book written by my colleague Chief Economist of the IDB, Santiago Levy, who was at his time as deputy minister of finance in Mexico the key person in designing and implementing the original Progresa programme. See also UNDP Poverty Center.

There still is a lot to be done in order to strengthen the “basic architectures” of those programmes, as approached by the literature here referred. Furthermore, attention must also be increasingly given to the so-called “graduation agenda”, i.e. identifying “feasible and effective levers (…) so as to help poor families escape from poverty and reduce their reliance on transfer income for subsistence” (Lindert et al., p.119-120), including complementary programmes at both macro (labor market, education and health policies, business environment etc.) and family (micro-credit, access to energy etc.) fronts. But it has become hard to deny that, even if CCTs are no panacea, they have performed better than most previous poverty reduction programmes in the region and have been one of the factors explaining the relatively higher intensity of dynamic at the bottom of the pyramid in some Latin American countries.

Give the Majority an Opportunity!

The recent dynamic at the base of the pyramid – the majority of the population in the region – might be reinforced if accompanied by an improvement of conditions of doing business at that zone and a corresponding structure of supply of goods and services more attuned to it.

First of all, there is a pure gain to be accrued by mitigating the so-called “Base of the Pyramid (BOP) penalty”. The concept of a base of the pyramid penalty paid by poor people addresses the fact that “many in the BOP, and perhaps most, pay higher prices for basic goods and services than do wealthier consumers—either in cash or in the effort they must expend to obtain them—and they often receive lower quality as well. This high cost of being poor is widely shared: it is not just the very poor who often pay more for the transportation to reach a distant hospital or clinic than for the treatment, or who face exorbitant fees for loans or for transfers of remittances from relatives abroad.” (p.5). But it also encompasses the mismatch between, on the one hand, poor people’s preferences and needs in terms of price-performance characteristics of goods and services, and on the other, the higher availability of goods and services catered at the top of the pyramid.

The potential gains go much beyond better consumption conditions, as the chains of production and delivery of those new goods and services tend in many cases to involve the BOP itself. Additionally, products with a better fit to the bottom may raise its productivity. One of my favorite examples is the one of poor fishermen who are now using cheap cell phones while still at the sea deciding where to shore, in order for arbitraging fish prices among different potential locations.

Provided that the current boom at the Latin American BOP sustains, gradually the structure of supply is expected to adapt to it. However, the process can be speeded up if the particularly harsh “doing business conditions” at those markets are directly addressed. In order to help the private sector adjust more rapidly in the region, the Inter-American Development Bank has launched a Building Opportunity for the Majority initiative, a six-year effort to promote and finance emerging business models directed at the Base of the Latin American pyramid (see here).

Bottom Line: Look at the Bottom

Tom is right when he asserts that the current macroeconomic boom in Latin America will be sustained only if based on increasing productivity and competitiveness, what will require a drive toward appropriate institutional change. However, given the historical legacy in terms of poverty and inequality in the region, the locus for establishing yardsticks in that regard should also include the bottom of the pyramid rather than only at the game of high-level global products and markets.

3 Responses to "The Base of the Latin American Pyramid"

  1. Tom Trebat   November 19, 2007 at 1:52 pm

    Otaviano, this is a great piece which calls attention to encouraging social trends in Latin America. My own blog sought to call attention to the “top of the pyramid” because one would expect to find there the mega-success stories underlying Latin America’s new success in global markets. My intuiton is that we are not really seeing much entrpreneurial dyanamism in Latin America, and that this is reflecting a failure of innovation systems throughout the region. While it is encouraging that the absolute numbers of the poor are declining in Latin America, I am wondering whether or not the same phenomenon is happening with even more intensity in China and India. At the same time, I would stress that these two countries (China and India) are probably much closer to self-sustaining growth than most of Latin America at the present.

  2. Otaviano Canuto   November 21, 2007 at 8:14 am

    I have to acknowledge that LA could be doing much better, Tom. It is not a matter of comparison of growth rates, as China and India are undergoing that process of structural change that LA has gone through in previous decades (and didn’t avail itself of the chance to resolve poverty and inequality issues). I like to see China as a combination of Arthur Lewis’ model and Mynt’s “trade as a vent for surplus”. But it is true that LA didn’t build strong innovation systems as you say. In Brazil, there is a well documented scientific production at some universities, but the lack of education at the entrepreneurial level keeps that production idle in the shelves. It is clear that we are not doing as well as we could and should…

  3. Marcela Meirelles   November 21, 2007 at 12:32 pm

    These days, when I see the appreciation of the real exchange rates throughout Latin America, and imports and domestic credit growing at a fast pace, I cannot help but remembering some boom and bust episodes of the past. Yet, when I compare Latin America with other parts of the developing world, I think the region scores better in several dimensions. Democracy – with few exceptions – is fairly well consolidated (and better income distribution, highlighted by Professor Canuto, will only strenghen it); domestic capital markets are reasonably free to allocate resources and interest rates by and large reflect the underlying opportunity cost of money or any alternative investments. Ok, maybe I am being too “easy” on Lat. Am.; but when you take into account that China, the current poster child of sustainable growth, doesn’t have any of the two elements that I mentioned – neither a democracy, nor market-determined interest rates – then you realize that Latin America deserves at least the benefit of the doubt.